The Property Law Act 2007 and how it affects leasehold interests

The new Property Law Act 2007 comes into effect on 1 January 2008. While a lot of the provisions in this new Act are a codification and clarification of the common law and the various property rules that are part of current practice today, there is no doubt that the thrust of some of the more significant changes is a measure to protect the position of tenants.

It will be a matter of time and experience to see whether in fact the legislation has gone too far in limiting landlord’s rights, particularly in the areas of landlords’ rights to consent to matters generally as they affect a lease, assignments of lease by tenants and a landlord’s ability to cancel a lease. In addition, various matters relating to insurance and subrogation rights that have been addressed in some of the printed forms of lease have now also been codified. However, prior to looking at some of these specific and potentially far-reaching changes, it is worth noting a few other factors that the new Act has changed, added or clarified.

Short-term lease and statutory tenancy defined

The new Act deals with less formal leases in a more detailed way than the previous Act. Briefly, a short-term lease may be written or oral, and is an unregistered lease that commences no later than 20 working days after the contract to lease, is for a term of one year or less or is otherwise a statutory tenancy (which is where a lessee is in possession of land either without an agreed term or is holding over after the term has expired). A statutory tenancy is terminable at will by either party giving to the other not less than 20 working days’ notice. Of further note, where a lessee holds over without consent it does so subject to the provisions of the lease, but a lessor accepting rent in such circumstances is not to be treated as having consented to the lessee remaining in occupation.

Termination of lease on occurrence of future event

One of the three requirements of a lease is certainty of term. The new Act now allows for a lease to terminate on the occurrence of a future event provided the event is sufficiently defined in the lease. If the event does not occur within ten years of the commencement of the lease, the lease will terminate unless the lease provides for termination, or notice of termination to be given on a date that is fixed in the lease but is later than the tenth anniversary date.

Sublease term longer than head lease is no longer an assignment of the reversion

The new Act makes provision that a sublease for a term longer than the term of the head lease will not operate as an assignment of the reversion unless a contrary intention is apparent.

Covenants implied in leases

The various sections in this subpart of the Act set out clearly the provisions that will apply to all leases entered into after 1 January 2008 (which are the provisions in part 2 of Schedule 3 of the Act). Other implied provisions are briefly:

Every lease (except short-term leases) contains the covenant that the lessee must yield up the premises in the condition existing at the commencement date, but a covenant to keep the premises in good condition does not require the lessee to put the premises in good condition if they are not so at the commencement of the lease

Where lessor’s consent is required, it must not be unreasonably withheld or delayed

Reference to “usual covenants” means those implied by ss218, 219 & 220 of the Act.

Right to distrain abolished

The Distress and Replevin Act 1908 has been repealed. The effect of this repeal means that irrespective of what is contained in a lease, the lessor’s right to distrain on a lessee’s chattels if a lessee has failed to pay rent will become a thing of the past as at 1 January 2008. In practical terms, distraint has always been a difficult remedy for a lessor to implement properly and it has always been marginal as to whether effecting distrain was an effective use of a lessor’s time and energy.

Removal of fixtures and fittings by lessee

The new Act makes express provision for the lessee to be entitled to remove any trade, ornamental or agricultural fixture (except a lessor’s fixture) that the lessee has affixed while the lessee is in possession of the premises, or within a reasonable time after the lessee is no longer in lawful possession. A lessor’s fixture has been defined as a chattel affixed to premises by a lessee, a former lessee whose estate acquired by current lessee or a sublessee whose right to remove fixtures has expired, but in such a manner that it becomes part of the structure of the premises (e.g. a fence). No doubt this definition of a lessor’s fixture will be the subject of some lively debate between lessors and lessees at the end of the term of a lease.

Areas of the Act with potentially significant effect

Lessor’s consent

Section 224 provides that where a lease is entered into after 1 January 2008, where lessor’s consent is required the lessor must not unreasonably withhold or delay consent and must give written notice of its decision to the lessee within a reasonable time. This section does not prevent the lease being drafted to absolutely prohibit any particular activity. Of greater significance to existing leasehold interests are the effect of sections 225-228, which apply to all leases, and to applications for consent received under those leases after 31 December 2007.

Where a consent to any of the specified actions in a lease is required (e.g. assignment, subletting, parting with possession, change of use or mortgaging the leasehold estate) there are now specific provisions governing the lessor’s consideration of such an application, and how notice of its decision must be given. If a lessor does withhold consent or imposes a condition or pre-condition on that consent, the lessor must give reasons for withholding or imposing the condition, if the lessee makes a written request for those reasons.

Consent will be regarded as unreasonably withheld if the lessor requires consideration for consent, seeks to impose an unreasonable condition or precondition on the lessee, or seeks to withhold consent on the basis that the lessee is bankrupt, in receivership or liquidation.

While section 225 also provides that a provision may be included in a lease absolutely prohibiting any of the specified actions referred to above (being assignment, subletting, parting with possession, change of use or mortgaging the leasehold estate), this section will be of no effect for existing leases. Depending on how these new consent procedures work in practice, there is every likelihood that leases will become more restrictive as lessors attempt to protect their position and investment.

Transfers and assignments

The provisions regarding the assignment and transfer of leasehold estates is likely to have an immediate effect as it will affect all transfers and assignments that come into effect after 1 January 2008 and will apply to all leases, whenever entered into.

Of most significance, an assignment will take effect whether or not the lessor has consented to it, and whether or not the assignment or transfer is otherwise in breach of the lease. While this provision does not affect the lessor’s remedies to re-enter, cancel the lease or make a claim for breach of the lease, these remedies actually require the lessor to take action, and are always at a cost to the lessor that is rarely fully recoverable from the assignor or assignee (see s240). Lessors also need to be aware that while section 225 (referred to above) will allow a lessor when entering into a lease with a lessee to absolutely prohibit assignment, section 240(2) will override that absolute prohibition.

Assignor remains liable: Section 241 codifies the rule that an assignor will remain liable to a lessor for the payment of rent and observance of the provisions of a lease. If the assignee varies the lease, the assignor’s liability is not increased beyond the obligations of the assignor at the assignment date, but not if the lease provides for the variation. While there is some case law surrounding the liability of guarantors under a lease that may be analogous with an assignor’s liability, because this section of the Act is not further clarified as is the case in various other parts of the Act, it is possible to construe that if the lease provides for both rent reviews and renewals, it is likely that the assignor will remain liable for the increased rent during a term, and quite possibly during any renewal of the lease.

Proof of compliance with lease: Another addition to the assignment and transfer of lease provisions is that the Act provides that the purchaser of a lease must treat the lease conditions as having been complied with if the vendor of the lease produces a copy of the rent receipt for the rental period immediately prior to the settlement date.

Remedies and relief

Another major change that comes into effect after 1 January 2008 and which will apply to all leases and licences, whenever entered into, are the provisions contained in sections 244-264. These provisions, which are deemed to be a code, specify that no lease can be cancelled unless in accordance with this part of the Act.

This part of the Act sets out in detail the procedures the lessor must follow, the type and content of the notices the lessor must serve on the lessee and other parties, and the parties upon whom a notice must be served before a lessor can properly effect a cancellation of a lease. Mortgagees and receivers of leasehold estates, and sublessees and their mortgagees and receivers, must now be served with cancellation notices. These parties also have the opportunity to apply to the courts for relief against cancellation of the lease.

This part of the Act also deals with a lessor’s refusal to renew a lease, with similar provisions being imposed on the lessor regarding the form and content of the notice and the parties who must be served with that notice. Note that the court has very wide powers in relation to the type of relief it can grant.

Damage or destruction and insurance

Another major change from the prior Act is the effect of sections 268 – 272. These provisions come into effect after 1 January 2008 and will apply to all leases, whenever entered into. These provisions reflect the recent changes that were made to the ADLS 4th Edition (2) form of lease, the intent being that as the party paying for the insurance of the premises, the lessee should be entitled to the benefit of that insurance except in particular circumstances.

The provisions of this part of the Act will apply if the whole or any part of the premises are destroyed or damaged by any of the specified events that the lessor is obliged to insure the premises for. The lessee will be indemnified by the lessor in relation to the costs of rectification even if the damage or destruction is caused, or contributed to, by the negligence of the lessee. Any departure from this provision must be clearly and expressly agreed to by the parties.

Lessee’s liability: The lessee is not totally excused from liability. To the extent that the damage or destruction was intentionally done by the lessee or the lessee’s agent, or was the result of an act or omission of the lessee or the lessee’s agent that occurred on or about the premises or land around the premises and constitutes an indictable offence under the Summary Proceedings Act, or if the insurance money is otherwise irrecoverable because of an act or omission of the lessee or the lessee’s agent, the lessee will be liable for the costs of rectification.

Right for lessor to terminate: If the damage or destruction was caused or contributed to by the lessee’s negligence, the lessor may terminate the lease on reasonable notice if the lessor’s ability to obtain or retain insurance cover on reasonable terms has been prejudiced by the damage. If the lessor does not wish to terminate the lease, the lessor can recover any increased insurance costs (including increased excess costs) from the lessee.

Conclusion

All landlords will need to be aware that the new Act will introduce, as of 1 January 2008, some quite far-reaching changes to relationships between landlords and tenants, some of which curtail a landlord’s ability to deal with their tenants in the manner which is outlined in their lease contract. It will be a matter of time and experience as to just how much effect these changes will make to the commercial lease market in New Zealand.

Chapman Tripp’s commercial property team will be happy to address you as to the amendments which should be made to standard commercial forms to refer to these statutory changes, and to give specific advice as to how the changes may affect particular matters.